Commercial Law - “Judgment Day”

Published:

We have all been waiting for some time for the House of Lords decision in Lonsdale v Howard & Hallam Ltd. The House of Lords heard the case on 16th and 17th May 2007 and the reserved judgment was handed down on 4th July 2007, citation [2007] UKHL 32.

In this short note I will set out the relevant parts of Lords decision, Lord Hoffmann delivering the lead judgment. It is a useful judgment because of it’s clarify and precision and because, at least for the foreseeable future, the method of assessment of compensation under Regulation 17 of the Commercial Agents Regulations 1993 is settled.

The salient facts of the case are:

Mr Graham Lonsdale is a commercial agent in the shoe trade. On behalf of his principals he travels around his territory with catalogues and samples, calling on retailers and attending exhibitions. In 1990 Howard & Hallam Ltd ("H & H"), shoe manufacturers of Leicester, appointed him to sell their Elmdale brand in south-east England. A few years later he was appointed by a German manufacturer to sell their Wendel brand in a slightly larger territory.

Wendel seems to have sold well and by 2000 accounted for two-thirds of Mr Lonsdale's business. Elmdale, on the other hand, was in terminal decline. Like many UK shoe manufacturers, H & H were unable to compete on style and price. Sales, and with them Mr Lonsdale's commission income, fell year by year. In 1997-1998 his gross commission was almost £17,000 but by 2002-2003 it had fallen to £9,621. In 2003 H & H ceased trading and sold the goodwill of the Elmdale brand to a competitor. There were no express terms about the termination of his agency - indeed, there was no written agreement at all. The agency was therefore terminable by reasonable notice. H & H gave Mr Lonsdale six months' notice. This is agreed to have been reasonable. He has been paid the commission on the sales which he generated. So he has no further contractual entitlement.

Assessment

If the commercial agent is entitled to compensation by virtue of Regulation 17, then before one assesses how compensation should be determined, one must firstly decide exactly what the agent should be compensated for. To this Lord Hoffmann said that the agent is entitled to be compensated for "the damage he suffers as a result of the termination of his relations with the principal." In other words, the agent is treated as having lost something of value as a result of the termination and is entitled to compensation for this loss i.e. compensated for being deprived of the benefit of the agency.

The House of Lords conclusively stated that English courts should not follow the French practice of awarding two years' losses as compensation. The House held that the value of the agency relationship lies in the prospect of earning commission, the agent's expectation that "proper performance of the agency contract" will provide him with a future income stream. Therefore, the correct measure of damages is to value the income stream which the agency business would have generated, on the assumption that the agency would have continued. For this purpose it is obviously necessary to assume that the agency would have continued and the hypothetical purchaser would have been able properly to perform the agency contract. He must be assumed to have been able to take over the agency and stand in the shoes of the agent, even if, as a matter of contract, the agency was not assignable or there were in practice no dealings in such agencies. That whilst it must be that the hypothetical purchaser would be able to take over the agency, there is no basis for assuming that he would then have obtained an assignable asset.

Furthermore, as one is placing a present value upon future income, one must discount future earnings by an appropriate rate of interest, and that if the market for the products in which the agent dealt was rising or declining, this would have affected what a hypothetical purchaser would have been willing to give. He would have paid fewer years' purchase for a declining agency than for one in an expanding market. If the agent would have had to incur expense or do work in earning his commission, it cannot be assumed that the hypothetical purchaser would have earned it gross or without having to do anything

Lord Hoffmann expressly approved of the decision of the Court of Session in King v Tunnock Ltd 2000 SC 424 - Mr King sold cakes and biscuits for Tunnock Ltd. He had taken over the agency from his father in 1962. It was his full time occupation. In 1994 the company closed its bakery and terminated the agency. The evidence was that over the previous two years he had earned gross commission amounting in total to £27,144. The sheriff held that he was not entitled to compensation because the principal, having closed the business, would not enjoy any benefits from the goodwill generated by the agent.

Lord Hoffmann said that in view of the closure of the business the agency was worth nothing. No one would have given anything for the right to earn future commission on the sales of cakes and biscuits because there would be none to be sold. Nor had the principal retained any goodwill which the agent had helped to build up. The goodwill disappeared when the business closed. The reason why the business closed is not altogether clear but Mr King's low earnings for full time work over the previous two years suggests that it was not doing well. Even if one assumes that commission would have continued at the same rate, it is hard to see why anyone should have paid for the privilege of a full time job which earned him less than he would have been paid as a bus conductor.

When valuing the agency one should consider the position at or immediately before termination. That the valuation should be by reference to net earnings as established in Tigana Ltd v Decoro [2003] EuLR 189.

Furthermore, in the case of an agent who has more than one agency, the costs must be fairly attributed to each. He cannot simply say, as Mr Lonsdale did in this case, that the marginal cost of the Elmdale agency was little or nothing because he had to see the same customers and go to the same exhibitions for Wendel.

Whilst the valuation exercise will often require expert evidence, indeed as said by the Court of Appeal "in most cases" the court would be likely to benefit from the assistance of an expert witness, the House found that once it is firmly understood that the compensation is for the loss of the value of the agency, relatively few cases will go to court. That it should not be difficult for the parties, with the benefit of advice about the going rate for such businesses, to agree on an appropriate valuation. That it should not always be necessary for them to obtain a full scale valuation, involving the checking of income and expenditure figures and the application of the going rate to those figures. But if the matter does go to court then the judge should have some information about the standard methodology for the valuation of such businesses. That in Lonsdale the judge was simply invited to pluck a figure out of the air and rightly refused to do so. Nothing is more likely to cause uncertainty and promote litigation than a lottery system under which judges are invited to choose figures at random. That said, like the Court of Appeal, the House of Lords agreed that the first instance judges decision to award Mr Lonsdale £5,000 could not be faulted.

It may also be possible, after a period of experience in such valuations, for the court to take judicial notice of what would be the going rate in what one might call the standard case, namely an agency which has continued for some time and in which the net commission figures are fairly stable.

Furthermore, if the agent is able to transfer the goodwill he has created with customers to another principal: for example, to persuade the supermarkets to whom he has been selling the produce of one winery to transfer to another, then circumstances such as these will be reflected in the process of valuation. The hypothetical purchase of the agency does not involve an assumption that the agent gives a covenant against competition. If the situation in real life is that the hypothetical purchaser would be in competition with the former agent and could not have any assurance that the customers would continue to trade with him, that would affect the amount he was prepared to pay. If it appeared that all the customers were likely to defect to the former agent (or, for that matter, to someone else), he would be unlikely to be prepared to pay much for the agency.

As said earlier, assessment is to be made upon what would have appeared likely at the date of termination and not what actually happened afterwards. But, the court is not required to shut its eyes to what actually happened. It may provide evidence of what the parties were likely to have expected to happen.

Summary

Compensation is assessed by reference to the value of the income stream of the agency discounted for accelerated receipt of payment (i.e. future earnings paid now) and on the assumption that the agency is continuing and is assignable;

The factors one should consider, (which in my view are non exhaustive) are: - the state of the market – rising or declining - expenses that the agency would have to incur; In the case of an agent who has more than one agency, the costs must be fairly attributed to each. One cannot simply say that the marginal cost of one agency was little or nothing because one had to see the same customers and go to the same exhibitions; - if the agent is able to transfer the goodwill to another principal then that will be reflected in the value of the agency; - likewise, if the agent is subject to a restricted covenant that too will be reflected in the value of the agency.

When valuing the agency one should consider the position at or immediately before termination i.e. what appeared likely at that time although the courts should not shut their eyes to what actually happened;

Valuations will often require expert evidence, and the best evidence of the value will be the price at which the agent could have sold his 'business' on the open market

This article is provided free of charge for information purposes only; it does not constitute legal advice and should not be relied on as such. No responsibility for the accuracy and/or correctness of the information and commentary set out in the article, or for any consequences of relying on it, is assumed or accepted by any member of Chambers or by Chambers as a whole.